The IRS is limiting its determination letter program for tax-qualified individually designed plans, which affects how and when plan sponsors can request documentation. Chris Collins, a benefits and compensation attorney with law firm Vedder Price, sat down with Employee Benefit News to discuss upcoming changes to the program and how plan sponsors can prepare for the disruption.
Employee Benefit News: What is the IRS determination letter program and why is it ending?
Chris Collins: The determination letter program has been ongoing for years; it’s a program by which plan sponsors can apply to the IRS for a determination that their plan, their retirement plan, whether it be a 401(k), a pension or a cash-balance plan, and it’s if company trust are qualified under the tax code, allowing the employer to deduct contributions, and therefore the income of the trust is shielded from income tax moving forward. In 2016, the IRS announced that it was ending the program due to budget concerns and basically a lack of resources it could dedicate to the program. It came as a little bit of a surprise to people because while IRS determination letters are not required for plans; I don’t know of any plans that don’t get IRS determination letters, and it’s a very commonly used and very useful program that the IRS provided to plan sponsors.
The IRS will continue to give determination letters to plans when they start, so if you start a new plan, you get a determination letter. If you terminate a plan, you can get a determination letter. Another thing the IRS has said it is contemplating doing is that it’s going to give plan sponsors more model amendments to adopt and also allow plans to incorporate various requirements into their plan by reference to the tax code.
The IRS has also stated it could open up the determination letter program in windows if circumstances were right, such as a major piece of 401(k) or pension legislation.
EBN: How will this disrupt those employers?
Collins: I don’t think the disruption will be immediate. There are a couple reasons for that. The IRS now is giving determination letters that don’t have expiration dates. If you were lucky enough to apply for a letter before Jan. 31, 2017, you might be getting a letter right now. Those letters aren’t going to have expiration dates. Also the circumstances, there have not been many legally required amendments to plans over the last couple of years.
Therefore the letters that we have right now, which are a couple years old, are still good.
EBN: What about in the future?
Collins: As the years go by, a couple different events could cause problems. One could be transactions, when you’re buying companies or selling companies. If a determination letter is a number of years old, a buyer may request more assurance that the plan is qualified. And loans, you could have a lender who will want more assurance that the plan is qualified. Mostly this is related to legal risk and possible penalties and disqualifications of the plans. Last is the annual audit that will take place with plans as related to their [Form] 5500, and this is done by an outside auditor. In there, those auditors make certain statements about the qualification of the plan and often look to the determination letter to do that. As we get farther away from the date of the determination letter a plan holds, that could become a problem.
I think law firms are going to start stepping into that void. A number, including Vedder Price, are going to be offering those services to clients to give [plan sponsors] that assurance.
EBN: Will it cause problems for HR or make their plans less attractive?
Collins: You have prototype 401(k) plans and then you have individually designed 401k plans. The prototype plans are not going to be affected by the IRS program, generally speaking, because they rely on the letters of the prototype sponsors, the Fidelitys, the Vanguards of the world. Individually designed plans… I don’t think [the end of the IRS program] will affect the offering of those plans.
Companies will continue offering 401(k) plans to stay competitive, to attract and retain those employees. What is could do is make people simplify or streamline their plans, so there’s not as many bells and whistles to them. I don’t think it should have a major impact on the administration of the plan moving forward.
EBN: How will this affect companies like Fidelity and Vanguard?
Collins: If you look at the 401(k) market, most small and mid-sized players … are already on prototype plans, and it makes sense for them; they tend to have simple plans and it tends to be cost effective for the organization. Larger organizations, they tend to have more complicated plans or they do more variations on their plans that may cause them to not fit into the prototype plan model. That being said, you have seen over the last couple of years a shift toward the prototype plans and I think that will continue when the IRS determination letter program ends.
EBN: Is there anything that employers should be doing during this change?
Collins: Right now, they need to rely on plan counsels and their third party administrators to be mindful of any required amendments that need to be done and that those amendments, when they do come out, are handled properly. Any discretionary amendments they’re thinking about doing to the plan, whether it be 401(k) or pension, be vetted through plan counsel to make sure they are looked at closely. Before you could make the amendments and do so very carefully, but you also knew that those amendments would be submitted to the IRS some point in the future. You don’t have that luxury now.
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